United States: New York's "Separate Entity Rule" Reaffirmed By The New York Court Of Appeals

On October 23, 2014, in Motorola Credit Corp. v. Standard Chartered Bank. No. 162, the New York Court of Appeals reaffirmed the continued vitality of New York's "separate entity rule." Under that rule, a judgment creditor cannot require a garnishee bank to restrain or turn over a judgment debtor's assets held in the bank's overseas branches. The Court of Appeals rejected the argument that its 2009 decision in Koehler v. Bank of Bermuda, 12 N.Y.3d 533 (2009), abrogated the rule, and it rebuffed arguments that it should take the opportunity to jettison the rule now.

As the Court held, the separate entity rule has been part of the common law of New York for nearly a century, and it remains important as a means to promote international comity, to avoid exposing banks to conflicting requirements and double liability, and thereby to promote New York's status as a preeminent commercial and financial nerve center of the Nation and the world.

The Court of Appeals' decision brings welcome clarity and certainty to an area that has sorely needed both since Koehler cast the issue into confusion five years ago.

The Federal Court Decisions

The New York Court of Appeals decision originates from a case filed in the United States District Court for the Southern District of New York, in which the plaintiffs' judgment creditors served a restraining notice issued under Article 52 of the New York Civil Procedure Law and Rules on the New York branch of Standard Chartered Bank ("SCB"). According to the court's decision, SCB held no assets belonging to the judgment debtors at its New York branch, but it held $30 million of their money at its branch in the United Arab Emirates. When SCB froze those assets, the UAE Central Bank unilaterally debited that sum from SCB's account with the Central Bank (apparently in order to make the accountholder whole), exposing SCB directly to the risk that it could be liable twice over for the same deposit—once to the accountholder and again to the judgment creditors.

On appeal, the Second Circuit noted that New York courts have long applied the separate entity rule to limit the scope of pre-judgment attachments and post-judgment restraints and turnover orders to assets held at garnishee banks' New York branches. Recognizing that New York's highest court had never explicitly endorsed the rule, however, the Second Circuit certified to the New York Court of Appeals the following question: whether the separate entity rule precludes a judgment creditor from ordering a garnishee bank operating branches in New York to restrain a debtor's assets held in foreign branches of the bank.

The New York Court of Appeals' Decision

On October 23, 2014, the New York Court of Appeals provided an unequivocal positive answer to the Second Circuit's question—the separate entity rule does, indeed, prevent a judgment creditor from ordering a garnishee bank operating branches in New York to restrain a judgment debtor's assets held in foreign branches of the bank.

The Court first rejected the argument that its decision in Koehler abrogated the separate entity rule, noting that the issue was not litigated in the Koehler case and that the rule would not have been applicable in that case anyway, as it did not involve an attempt to garnish money held in a bank's overseas branch.

Over a dissent from two members of the Court, the Court of Appeals went on to reject arguments that the separate entity rule is outmoded and should be abolished. The Court noted that the rule is a "firmly established principle of New York law" that has been part of the "common law of New York for nearly a century," and that international banks have "undoubtedly" considered the doctrine's benefits when deciding to open branches in New York, "which in turn has played a role in shaping New York's status as a preeminent commercial and financial nerve center of the Nation and the world."

The Court determined that the rule should be retained for three reasons. First, without the separate entity rule, international banks would be exposed to the risk of competing claims and double liability. Second, in the context of the multiplicity of laws and regulations to which global banks are exposed, the separate entity rule promotes international comity by avoiding conflicts among competing legal systems. Third, the Court acknowledged that although banking technology may have advanced in the century since the separate entity rule was first adopted, requiring global banks to restrain assets in overseas branches still presents real practical problems.

The decision is to be applauded for recognizing the practical, legal and financial burdens that global banks would face if required to freeze accounts worldwide when served with restraining notices in cases in which they are not even parties, and for putting an end to the uncertainly created by the Court's 2009 Koehler decision.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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